Busch: A Stock Market Rally, Then What?
As we head into the end of the year, there are amazing things happening in the financial markets all surrounding the "Fiscal Cliff."
I've warned my readers (and viewers) for months over the potential for massive changes in the U.S. tax code surrounding capital gains and dividend tax rates. As most know by now, the capital gains tax rates go up from 15% to 23.8% and the dividend tax rates go from 15% to ordinary income 3.8% (Obamacare tax) which translates into top tax rate of 42.6%.
While there has been many pointing to the fact that under the Clinton administration these were about the tax rates in place and the economy grew. Of course under Clinton's first term, the average growth rate was 3.3%. Under Obama's first term, the average growth rate was 0.8%. The point is that high tax rates or raising tax rates have less of a negative impact when the economy is growing faster than 3% versus 0.8%.
But let's talk about action.
Action by the markets indicates rates matter significantly. How else could one explain the spate of IPOs and debt issuance ahead of the proposed tax changes? According to Dealogic, nonfinancial companies with investment-grade credit ratings have sold more than $100 billion of bonds so far in November, the largest monthly total on record, going back to 1995.
The WSJ notes that the "junk," or below-investment-grade, market also has seen a flurry of activity. "From Carnival Corp.to Costco Wholesale Corp. companies are rushing into the bond markets to help finance special dividends for shareholders ahead of an expected increase in dividend taxes, analysts said." Walt Disney Co. raised their annual dividend by 25% and Costco announced a special $7 dividend a share. Both will be for shareholders as of December 10th. Also,Wal-Mart Stores Inc. moved the payment of their fourth-quarter dividend to Dec. 27th, instead of the previously planned January 2nd.
(Read More:Don't Chase Special Dividends: Pro)
Intelligent investors appear to be snapping up these dividend issuing stocks to receive the new or increased dividends. Costco's shares have rallied from 96.51 to 102.58, about 7%. (You Can Track Costco Stock Here)
Overall, this activity has led the S&P 500 to rally back almost all of the 90 points it lost after the U.S. election. Which leads me to wonder about what is going to happen after the ex-dividend dates for these companies that are issuing large dividends? If tax rates increase as expected, then I'm concerned how these share prices will react after that date.
We'll get our first taste of this potential stock market action after December 10th.
(Read More: Even Muni Bonds May Be Targeted in 'Fiscal Cliff')
Andrew B. Busch Director, Global Currency and Public Policy Strategist at BMO Capital Markets, a recognized expert on the world financial markets and how these markets are impacted by political events, and a contributor to CNBC's "Money in Motion Currency Trading." You can comment on his piece and reach him here and you can follow him on Twitter at http://twitter.com/abusch .
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